Long-term outlook: We have increased our long-term gold price forecast to 850/oz, from $750 previously. Production cost and physical supply-demand considerations do not capture long-term drivers of the gold price. Investment drivers are more relevant, particularly the dollar.

Cost & margins: Consistent with our analysis of other commodities, we have looked at the long-term gold price on a long-run cost and margins basis, using long-run forecast cost inflation of 4% off an industry average cost base of $338/oz. Together with a long-run industry average margin of 37%, it implies a long-term price of $650/oz. The analysis is sensitive to estimates of the sustainable component of costs and cost inflation rates, but scenarios point to a long-term price of between $600 and $650/oz.

Incentive price: Given gold’s declining production profile over the next few years, incentive prices have more relevance than in other commodities. We have assessed 90 tentative, possible, probable and high probable projects capex and capacities. We have assumed industry average project capex of $3570/oz falls by 20%, yet average project capacity of 317koz pa remains unchanged. Average project mine life is 13 years, but we have assumed this is extended to 17 years through resources to reserve conversion. The long-term prices required to generate 15-20% internal rate of return on new projects ranges between $950/oz and $1150/oz.

Investment drivers: Investment drivers are becoming a more important determinant of the gold price than mine economics. We present the relationships with the major investment drivers: interest rates, inflation and the dollar. The long-run secular decline in the dollar has been the most important driver of the gold price.

The figures below show the inverse correlation between the gold price and the dollar against the euro. Some abatement in the downward pricing pressure from central bank selling has allowed the dollar driver to become more apparent.

Long-term prices: Gold prices have increased steadily, driven by concerns over sovereign debt and associated economic contagion. We have increased our forecast for 2011 to $1227/oz. One of the most striking features of the gold market is the shifting relationship with the dollar. The price is much higher than historical relations with the dollar would imply. Key to the outlook is whether this is a structural shift. We believe it reflects heightened concerns over sovereign risk and other systemic challenges to the global economic and political outlook.